The Problem of an Excess Insurer’s Liability When the Primary Insurer Is Insolvent

The homeowners association of a condominium development sued the builder, Polygon Northwest, for construction defects arising before 1996 and continuing through 2000. Polygon had primary and excess liability insurance with various carriers during the relevant policy periods. United Capitol Insurance Company, which issued $2 million of primary coverage for 1998-2000, became insolvent in 2000. Great American Insurance Company was the excess insurer for the years when United Capitol was the primary insurer. Assurance Company of America and Commercial Underwriters Insurance Company provided primary coverage in other years, and Assurance and Ohio Casualty Insurance Company provided excess coverage in those years.

Polygon settled with the homeowners association for $7.8 million -- $6,314,000 for damages and $1,486,000 for litigation costs. Each insurer except Great American participated in funding the settlement. Assurance and Ohio Casualty sought equitable contribution from Great American.

Great American argued that someone had to actually pay the full limits of United Capitol’s policies before Great American’s excess coverage became available. Otherwise, it argued, it would be forced to “drop down” and cover United Capitol’s obligations. The trial court ruled that Great American was required to contribute to the settlement, but allocated liability for the $2 million “gap” in coverage created by United Capitol’s insolvency equally among the three excess insurers.

The court of appeals upheld Great American’s obligation to contribute to the settlement, reasoning, “Nothing in Great American’s policies stated that Great American’s liability was contingent on the actual payment of the limits of its underlying insurance.” The court distinguished Rees v. Viking Insurance Co., 77 Wn. App. 716 (1995), where the excess insurer was not liable after the plaintiffs released the primary insurer for less than its policy limit but purported to agree that the plaintiffs could seek additional funds from the excess insurer. The court observed that, unlike the settlement in Rees, the Polygon settlement was “substantially greater” than the limits of United Capitol’s primary policies.

The court of appeals reversed the trial court’s equal allocation of the settlement obligations among the excess insurers. The court held that Great American would not be required to “drop down” to cover United Capitol’s obligations. Great American’s policy addressed the insolvency of a primary insurer by providing that the excess coverage would apply as if the primary coverage were “valid and collectible.” The court reasoned, "Washington law does not, in fact, force insurers to pay for losses that they have not contracted to insure." The court observed that the trial court's role was "not to distribute among the various excess insurers the 'gap' in coverage created by United Capitol's insolvency but, rather, was to define each insurer's liability for the covered loss according to the terms of its policy or policies." Among other things, the court also held that attorney’s fees were not payable under a supplementary payments provision that covered “costs taxed against the insured” and that the Olympic Steamship rule for attorney’s fees did not extend to equitable contribution claims between insurers.